South Africa's Woolworths set to buy Australia's David Jones for $2 billion

SYDNEY South African retailer Woolworths Holdings Ltd (WHLJ.J) is set to buy struggling Australian department store operator David Jones DJS.AX for $2 billion after trumping an offer from Myer Holdings Ltd (MYR.AX), it was announced on Wednesday.

The acquisition, the biggest for the South African company to date, would create a leading southern hemisphere retailer that will benefit from greater scale and a common fashion seasonality, it said.

Woolworths Holdings, which has no relationship with Australian supermarket chain Woolworths Ltd (WOW.AX), already has experience in the Australian market, owning 88 percent of upmarket clothing retailer Country Road Ltd CTY.AX as well as another clothing chain Witchery.

A company spokesman said it would avoid using its Woolworths brand in Australia to avoid any clash with the local company of the same name.

The deal also provides David Jones, which has seen profits decline for the past three years as competition from overseas players heats up, with more expertise in online offerings and private brands.

Resilient consumer spending, fuelled by a strong local currency and record low interest rates, has encouraged the likes of Sweden's Hennes & Mauritz (HMb.ST), and Japan's Fast Retailing (9983.T), the operator of the Uniqlo clothing chain, to set up shop in Australia.

"The view that we take as a business is that the department store isn't dead - mediocrity is dead," Woolworths' chief executive, Ian Moir, said at a briefing in Sydney.

"In short, we're buying this business to build a bigger southern hemisphere brand."

Woolworths Holdings, an upmarket retailer which operates department stores, clothing stores and a supermarket chain in South Africa, is offering A$4.00 a share in cash for David Jones, Australia's second-largest department store, a 25 percent premium to Jones's closing share price on Tuesday and a 40 percent premium to its close on January 30, when the Myer offer was made public.

Woolworths said it will fund the acquisition with a mix of equity and debt with plans to make a share offer in South Africa

and raise new debt in both the Australian and South African markets. The company declined to say how much new capital it intended to raise.

Woolworths' shares were down 6 percent at 68.96 rand by 1130 GMT, valuing the firm at around 58 billion rand ($5.6 billion).

The offer, which has the backing of the David Jones's board, is slightly above the company's intrinsic value of $3.51, according to Thomson Reuters StarMine, which projects how much a stock should be worth based on expected earnings growth over the next five years.

"This makes a huge amount of strategic sense. They can afford to pay a high multiple," said Commonwealth Bank retail analyst Andrew Mclennan.

"There is going to be big synergies coming from this transaction."

Woolworths' profits have grown 20 percent a year in the past five years on the back of investments in product development, tighter inventory management and through online sales, and the company plans to bring this expertise to David Jones, Moir said.

He estimated that the company could add at least A$130 million annually to David Jones' bottom line within five years.

David Jones posted an annual profit of A$95.2 million in the last financial year.

Its shares jumped to match the bid price but later pared gains slightly to end the day 23 percent higher at A$3.91.

ALL ABOUT SCALE

The offer prompted Myer, Australia's biggest department store operator, to withdraw its all-share proposal that valued David Jones at A$1.7 billion as of Tuesday's closing price, and which it had promoted as a merger of equals.

In 2013, in U.S. dollars, Woolworths revenue was $3.6 billion and David Jones was $1.7 billion, putting their combined sales above Myer's $2.9 billion.

"What we are seeing is like a global consolidation of retail," said Morningstar analyst Tim Montague-Jones.

"That's increasingly seeing stronger retail models expand offshore and take market share from weaker ones. It's all about scale," he said, noting Myer would be left in a much weaker competitive position.

Shares in Myer ended 3.9 percent higher, however, on relief that it would not be overstretching itself in seeking a deal.

Woolworths' Australia expansion is in sharp contrast to international and South African retailers, which are moving into the rest Africa, a poor but fast-growing continent touted as the next bright growth spot for retailers.

Africa was thrust into the retail spotlight three years ago when Wal-Mart Stores Inc (WMT.N) paid $2.4 billion for a controlling stake in Massmart Holdings (MSMJ.J), giving it a foothold in several sub-Saharan countries.

Moir told reporters the Cape Town-based company was still very much committed to expanding into the rest of Africa as part of stated plan to create to a southern hemisphere retail giant.

"This deal is not going to impact growth or opportunities in Africa and in South Africa, we will still build a big business and we'll still open more stores across the African continent," Moir said.

Woolworths pulled the plug of its Nigerian business late last year, citing high rents and duties and difficulty in marketing its products to consumers in what is now Africa's biggest economy.

ATTRACTIVE AUSTRALIA

Analysts expect to see more competition in the Australian market as more players seek a slice of the pie. Marks & Spencer may also be planning to set up shop, local media has reported.

Australian retail sales rose 0.2 percent in February to a record A$22.97 billion, following a 1.2 percent climb in January. It was the 10th straight month of increases, the longest such stretch since 2006/07.

The retail sector accounts for 17 percent of Australia's A$1.5 trillion in annual gross domestic product (GDP) and is the second-biggest employer, providing 10 percent of all jobs.

The deal also came on the same day that a measure of Australian consumer sentiment rose for the first time in five months in April as households became more optimistic on the near-term outlook for both the economy and their own finances.